Archives For European Union

Membership of the European Union has been an issue the accountancy profession has made little noise about and it’s viewed as a political issue. However, EU membership is an economic matter which is why here at ACCA we feel an obligation to take a view on membership.

The Deputy Prime Minister Nick Clegg MP described leaving the EU as “economic suicide.” He is right. But why do we care? Because accountants, perhaps now more than ever as we emerge from a global recession, have an important role to play in the recovery, future growth and in guarding against future risk to the UK’s economy.

Accountants traditionally look at the numbers, and they paint a convincing picture of why the UK should not back out of the EU. However, the profession is seeing its role and remit broadening into a much more strategic, forward-looking role in business and from that perspective too, giving up on the economic European Union would be bad news for UK plc.

ACCA sees staying in Europe as a no-brainer, and we aren’t alone. Nissan’s chief operating officer Toshiyuki Shiga has pointed to the major benefits for foreign investors in the UK being part of the EU. As Nissan owns the biggest car factory in Sunderland, employing 6,100 people, and is supported by UK supply chains that employ even more, Shiga’s comments should not be ignored.

Leaving the EU is also bad for the smaller businesses further down the supply chain. SMEs would actually benefit greatly from an even more integrated European Union. SMEs could increase export trade by 45 per cent if the remaining barriers in the Union are lifted.

But this issue isn’t just about trade. It’s about people.

Chief finance officers tell us that overseas experience will be a vital skill for tomorrow’s finance leaders. That sentiment fits with ACCA’s qualification – an exportable asset. You can study it in the UK and take the qualification to the Czech Republic or other markets (and vice-versa). In the EU, that mobility is made easier by free movement of people laws.

The UK benefits from being able to access talent from across Europe – employees bring with them market knowledge and close links with clients, customers and other stakeholders. This cultural connection is vital in a global business world.

The EU is also a vehicle for social mobility. ACCA is guilty of repeating the same messages around social mobility, but can you blame us? Since our infancy in 1904, social mobility has been the central principle of our qualification. Who you are and where you come from is no obstacle to the ACCA Qualification. That social mobility principle also applies in the EU.

Social mobility can include upward progression across Europe in finance and beyond, as well as within the UK? Cutting that continental option off and confining social mobility to within the UK’s shores is strangling that upward mobility.

This isn’t just about the current workforce either. Opportunities for Britain’s younger generation won’t be there if major employers have to leave the UK. Where will they get work – Europe? That won’t be so easy if the UK throws in the towel with the Union.

And if jobs and social mobility aren’t concerns for some, perhaps the numbers – more familiar territory for the accountancy profession – can paint a more convincing picture as to why a UK out of Europe is a bleak place.

The EU is the largest economy in world, worth £11 trillion, ahead of the US (£10.3 trillion) and China (£5.4 trillion). Nearly 34 per cent of world trade originates in Europe, worth around £3.5 trillion annually. The EU is also the top trading partner for 80 countries.

UK companies benefit by £500m a year, while 50 per cent of foreign direct investment to the UK comes from other EU member states. Over 40 per cent of UK exports go to the EU and they are tariff-free. More than 300,000 UK companies operate in the EU.

Amidst the emotional scaremongering about the EU’s threat to British culture, the figures paint a clear picture that big business, overseas investors, small business and UK employment stand to lose if we drop out of the EU.

It’s difficult to ignore the arguments for staying in Europe. The consequences of leaving will hit the UK hard.

The tax, although to make sure that the financial sector makes a fair and substantial contribution to public finances and pays back at least part of what the European taxpayers had to pre-finance during bank rescue operations, could have quite the opposite effect.

The legislative proposal – should it ever come into effect, as the timeline foreseen for adoption of this controversial proposal by 2014 is not likely to be met – suggests to levy the tax on all financial transactions, provided that one of the parties is domiciled in one of the 11 participating countries. If one of the parties concerned is outside the FTT system, the taxing country – an FTT participant – would collect the tax to be paid by the institution as well as the tax paid on its own territory. The result could be that member states willing to adopt the measure will essentially be limiting their trade with countries which have not adopted it

A global approach needs to be agreed on to implement some form of FTT that would work for all, and help economic recovery by encouraging global trade.

The tax in its current form, as proposed by the European Commission, , while up to each participating country, wouldneed to be tightly ring-fenced to be within their own territories and not extra-territorially as currently proposed, otherwise, according to the Council’s legal service opinion dating 6 September, this situation would be “discriminatory” in certain respects, and could result in “a distortion of capital movements” as well as in the unjustified exercise by participating countries of their jurisdiction “over entities outside the area concerned by the legislation.

In addition, the FTT as it stands, could risk being footed by the consumer rather than the banks it was intended to levy.

In a Financial Times article last week, it came up with some points on the legal debate of the implications in introducing an FTT:

This is an unusually clear, blunt and damning legal opinion on a flagship European Commission proposal. Most Council legal service opinions are a model of equivocation. To be as forthright as this, the service needs to be absolutely confident about the legal argument, or enjoy a permissive political backdrop to make the case (i.e. important finance ministries either agree or are not displeased to see the opinion published).

It is non-binding. This is not formally the end of the FTT — the talks go on. The Commission legal service completely disagrees with the Council’s viewpoint and will likely respond. Such differences are not unusual, far from it. What is rare is for the differences to be put to paper so starkly. This is not a happy moment for the Commission, especially given the political capital it spent on promoting this proposal.

The politics was already moving against the most ambitious models for a Eurozone FTT. Many of the 11 euro area states looking to agree an FTT have been public about their reservations — France, Italy, Spain and (to a degree) even Germany. This opinion will likely accelerate the process of scaling back the original Commission proposal. That applies to its reach beyond the Eurozone, the range of transactions it covers and the rate that is applied.

This may well be the death-knell for the so-called “residence principle”. This Commission-designed provision basically meant that financial institutions were taxed according to where their headquarters are based, rather than where the trade is executed. It was the crucial anti-avoidance provision that meant the FTT covered trades in London, Singapore and New York. The Council legal service basically argues that one of the core parts of that provision is unlawful because of its impact on states outside the FTT zone.

An FTT could still emerge, albeit in far less ambitious form. The legal attack on the residence principle naturally gives a boost to those countries that are happier to see a stamp duty style tax. That imposes a levy depending on where the instruments are issued, rather than where the people trading it are based. The trouble is that it is much harder to design a stamp duty for derivatives — the instruments the FTT was primarily intended to target.

This is a big win for the UK, which has long been making the case that the FTT is illegal and extraterritorial. That said, the legal challenge lodged by the UK strictly addressed a different issue — the process by which the 11 Eurozone states decided to move ahead as a vanguard to agree a tax that other EU states rejected. Nevertheless it is almost certain that the UK would sue over the residence principle as well, if it ever emerged in practice.

This tax was always going to be difficult to agree and implement. The Commission will now have to present solid arguments to member states and may potentially have to narrow the scope of its proposal. FTT should ideally only be implemented after global agreement otherwise it may cause those member states adopting the tax to lose financial sector businesses and jobs. In addition the Commissions own calculations showed that if FTT were introduced across the EU it would reduce growth by 0.3%. If such a growth reduction were to occur across only eleven member states then the negative growth could be even greater for the adopters.

I was fortunate to chair a roundtable on the future of audit while MEP Karim, rapporteur for the JURI committee on the EC audit proposals, was in New York recently on a fact-finding visit to understand more about the US and the global audit market, to consider the broader impact of the EU audit proposals. The roundtable attracted a wide range of attendees, and it was interesting to hear the perspectives from the US. Not surprisingly, much of the debate focussed on the critical EU proposals such as mandatory auditor rotation, tendering and non-audit services.

There were some general recurring themes that arose at the roundtable:

Although a single country, the US state system is not so different to EU member states – for example auditors are required to be registered with the state.

The distinction between public company audit (regulated by PCAOB and SEC) and private company audit (AICPA and state) is quite significant.

The rules on audit committees are set by the SEC. These tend to relate to the legal requirements, including independence of Audit Committee (AC) members, rather than the functioning of the AC, and there was strong support for an enhanced, and more transparent, role for the AC. There was general support for the role of the AC in evaluating non-audit service provision.

There was very strong disagreement with mandatory audit rotation across almost all sectors (in line with the feedback to the recent PCAOB consultation on the topic), and in fact the day before the roundtable a motion was tabled in Congress to prohibit any proposed rules on this. The practical impact on global businesses of potentially different mandatory rotation requirements in different jurisdictions was noted. However, it appears PCAOB may still be interested in pursuing rotation.

We support strengthening the role of the audit committee and increased transparency

We do not support mandatory rotation of auditors as we do not believe that there is evidence that supports an improvement in audit quality as a result

We do not support restricting the role of professional bodies, particularly in relation to the monitoring of auditors of unlisted entities.

Following the approval on MEP Karim’s report, the focus now moves to the Council. Let’s hope that they will recognise the good work that has been done in the Parliament as they now work on their revisions to the audit proposals …

ACCA has consistently stated that the view of investors should be at the heart of standard-setting and financial policymaking. Too often their voice is not heard as rules are being made or proposals formulated.

But who exactly are the investors? How have their asset allocations and investment strategies changed since the Global Financial Crisis (GFC)? And, of most direct interest to accountants, what do they want from corporate reporting?
ACCA is undertaking a four-stage project examining the UK and Ireland investor landscape, post-GFC and the first two reports, based on interviews with key players and a survey of 300 investors carried out concurrently, reveal trends of far greater international application.

The increase in short-termism is one clear trend. The traditional domination of markets by pension funds and insurance companies has been eroded both by greater international ownership of companies, and by the emergence of other players such as hedge funds and private equity firms, with shorter-term investment horizons. And even the traditional players have switched much of their investment from equities to bonds, as a result of the GFC.

Added to this , the vastly increasing proportion (estimated by some to be 80%) of trades that takes place via computer in nano-seconds has left a question mark on who the owners of companies actually are – and how companies can meaningfully engage with investors who hold shares for a very short time. We have already seen international policymakers, such as the G20 and EU, responding with measures to enhance long-term finance and address the ‘ownership vacuum’. More is needed, it seems.

Low interest rates are another key trend. Central bank activism, leading to loose monetary policy, historically low interest rates and currency wars throughout Europe and the US has been a major response by the authorities to the GFC. This has had a clear effect on investors, making them search for yields in riskier investments.

Perhaps inevitably, the greater pressures on investors has seen a constant demand for more information and transparency -and the proliferation of new technologies such as mobile and social media has led to massively more corporate information being available, much of it on a real-time basis. But how much it is useful, and how do investors prevent themselves being overwhelmed?

Intriguingly our research revealed a dichotomy – and one which leaves policymakers with much to ponder. Three-quarters of investors say that, that the quarterly report remains a valuable input to their investment decision-making. Yet, at the same time, almost half of investors believe mandatory quarterly reporting should be abandoned, with almost two-thirds believing the increase in information has encouraged “hyper-investment” and taken up excessive amounts of management time.

This suggests a “tragedy of the commons” effect, whereby individual investors want to consume quarterly reporting for their own self-interest, despite recognizing that this focus on shortening time horizons is damaging for the overall market’s long-term interests.

Fully 45% said they had little use for the annual report – and worryingly, two-thirds said their faith in company reporting had declined since the GFC. Almost half that believe management has too much discretion in the financial numbers they report. While perhaps not surprising, these are nonetheless chastening findings for standard-setters and policy-makers to reflect on.

Is there any good news for the profession? Yes for auditors – much maligned of late – as external assurance of company figures seemed to be their main source of credibility. And investors claimed that they would be prepared to pay more to have additional information available contemporaneously as long as it was externally verified. This would put pressure on the audit profession – but it should consider it carefully as a way of regaining the initiative following recent critical political and regulatory inquiries on audit.

There is much here for many other parties to chew over, and ACCA will be following this up with a series of events designed to bring key players together to thrash it out, before releasing stages 3 and 4 in this research series, which will look at the ‘real-time’ issue in greater depth and investigate corporate reaction.

But for now, accounting standard-setters and regulators must consider the criticism of standards and the annual report. Policy- makers must wrestle with the quarterly reporting conundrum. And the investors themselves must consider how to get their voice more clearly heard when policy decisions that affect them are being made. If they really are prepared to pay more for a wider audit, then now would be a good time to let that be clearly known.

Amidst all the focus on tax changes and economic forecasts in the UK Budget yesterday, accountants could be forgiven for not noticing an interesting announcement sneaked into the fine print: that the Government has called upon the Office of Fair Trading to assess whether bank clauses in lending agreements unfairly restrict competition in the audit market.

The surprise announcement – mentioned on page 78 of the 126 page Budget document issued jointly by the Treasury and Department for Business, Innovation and Skills comes just before the report of the House of Lords inquiry into audit competition, expected to be published next week. It seems to have stolen some of the thunder from the Lords' conclusions.

The Government seems to have been influenced by the OECD, which suggested last year that banks sometimes make loans to business contingent on having audits carried out by the Big Four. Mid-tier firms such as BDO and Grant Thornton told the OECD of the existence of such restrictive covenants and have been very vocal on the subject ever since.

The Financial Reporting Council, which examined the issue and urged companies to disclose any such clauses (though admitting that few do) yesterday promptly welcomed the Government's move, which seems to have been inspired by Vince Cable, who has previously urged action on the issue.

ACCA, in its own submission to the Lords inquiry, supported greater audit competition and specifically focused on the restrictive covenants issue (along with liability) as being one area where action could be taken, so we welcome any move that the OFT might take to prevent banks including any such anti-competitive clauses into its lending agreements.

Firms should have to demonstrate that they are the best-placed to carry out audit work – it should not be assumed and they certainly should not be given artificial 'help' in this way. Action in this area could genuinely increase competition by persuading 2nd tier firms that it is worth undertaking expensive and time-consuming tenders. At the moment they are understandably reluctant to do so in certain cases, believing they will not be given a fair crack of the whip.

It will be interesting to see what concrete evidence the OFT unearths, but the very fact it has been asked to examine this issue by the Government increases the political pressure on the Big Four. You can be sure it will have been noted in Brussels, where EC Financial Services Commissioner Michel Barnier continues to deliberate on fundamental changes to the audit profession. He will also have noted in the Budget document yesterday that the UK intends to "press the European Commission to remove the audit requirement for most medium-sized companies in the lead up to the publication of a revised audit directive, expected in November 2011." This, it is understood, would mean companies of up to £25m turnover, a dramatic hike from the current level.

This is where ACCA parts company from the Government. You can make a fair case for SMEs not to have to undertake a full audit. But if you believe that good audit adds value to business – as we strongly do – then where should that line be drawn? The Budget document once again makes reference only to the 'savings' made by such plans – this time a conveniently eye-catching £200m – and not the downside of a dramatic increase in the number of businesses having no external check on their finances. Other EU member states do not even use the maximum threshold allowed under current rules, fearing that, in the current global economic uncertainty, doing away with audits may not be wise. Can the Government be so sure they are wrong without carrying out any impact assessment?